As is the case with all contracts, as the saying goes, the devil is in the details. Whether you are a landlord or tenant, it is important to understand the potential implications of the insurance and indemnity sections of any lease agreement entered into.
“For landlords, transferring risk to a tenant contractually via the lease agreement should be considered standard procedure,” says Chris Zito, managing director of Zito Insurance Agency a Division of Risk Strategies.
Smart Business spoke with Zito about what landlords should consider in their real estate lease agreements to transfer risk to their tenants.
What are some common provisions found in leases that landlords should examine?
The first is the required limits of insurance. Minimum primary General Liability limits of $1 million per occurrence and $2 million annual aggregate are common in most leases. However, increased primary limits, or the addition of excess/umbrella coverage, are becoming increasingly common as a result of the impact of social inflation.
If you decide to add umbrella liability as a requirement of the contract, landlords should strongly consider requiring a primary noncontributory endorsement, as well.
A second is having the lessor named as an Additional Insured, which we recommend as a standard risk transfer requirement in all lease agreements. When the lessor is named as an additional insured, the tenant’s insurance carrier has a contractual responsibility to defend the lessor for its vicarious liability exposure in the event that it is named as a co-defendant with the tenant. However, it is important to note that most Additional Insured endorsements will not provide a defense in cases in which the landlord is named as the sole defendant in a case.
What is a waiver of subrogation?
The majority of leases we review include a provision for a cross waiver of subrogation. This provision prohibits the insurance carrier for either the landlord or the tenant from subrogating against the other party for property damage caused as the result of negligence.
While on the surface this approach would appear to be equitable, from a practical standpoint, it can be proportionately disadvantageous to the landlord. In our experience, the majority of property damage incidents between landlord and tenant result from the negligence of the tenant, for example, faulty space heaters, overloaded electrical outlets, trash can fires, improper storage of flammable materials, etc.
With a waiver of subrogation in place, the landlord’s carrier is forced to absorb 100 percent of the expense of repairing or rebuilding, as the landlord has no legal recourse against the tenant. This results in an adverse impact on the landlord’s claim experience, and subsequently, its property insurance rates.
For a landlord, the preferred situation is to include a unilateral waiver of subrogation in the lease, but such a waiver can be difficult to negotiate.
As a result, there is a school of thought that a landlord is better positioned without having any waiver of subrogation for property damage than a cross waiver. However, every situation is different, and before deciding how to proceed and signing a contract with a tenant, landlords should consult with an attorney so they are best positioned for damage that may occur.
Work with your attorney to develop standard contracts for tenants to sign but be aware that certain situations may require refinements to the contract. Understanding risk transfer clauses in your contracts and ensuring they are carefully defined gives you the ability to limit potential liability and protect yourself from claims.●
INSIGHTS Business Insurance is brought to you by Zito Insurance Agency a Division of Risk Strategies